Since the federal Consumer Financial Protection Bureau opened in 2011, the agency’s investigations and enforcement actions have brought in more than $12 billion to auto buyers, owners, licensees credit cards and other borrowers who have been victims of deceptive or predatory practices. Consumers who have been trapped in debt by the notorious payday loan industry will now get extra help from the bureau with a rule imposed this month.
These lenders advertise as “easy” short-term loans that mature in two weeks. The borrower typically writes a post-dated check for the full balance – including fees – or allows the lender to electronically debit funds from their checking account. Borrowers often take out another loan to repay the first, falling into a cycle of increasing debt.
The office found in a 2014 study of about 12 million payday loans that only 15% of borrowers could repay the entire debt without borrowing again within two weeks. Almost two-thirds of borrowers renewed loans – some more than 10 times – paying hefty fees that further eroded their financial situation. Surprisingly, the bureau found that most people pay more in fees than they originally borrowed.
The new rule limits how often and how much customers can borrow. And lenders should take a common-sense approach to underwriting, determining whether the borrower can repay the full loan while meeting living expenses.
Borrowers can take out a short-term loan of up to $500 without this test, as long as it’s structured so they’re not automatically trapped into borrowing again. The rule also limits the number of times the lender can debit the borrower’s account, so borrowers can dispute erroneous withdrawals.
The bureau is prohibited by law from fixing interest rates. But the new regulations make it clear that state usury laws — already in effect in 15 states — offer the most effective route to ending the exploitation of the debt trap. The only weakness of the new regulations is that they are extremely complicated, which means the industry will inevitably find loopholes to exploit.
Predictably, the convenience industry is crying wolf, arguing that the new restrictions will dry up credit in some areas. In truth, payday loans will continue at lower profit margins – stripped of the debt trap. Beyond that, smaller banks and credit unions are beginning to realize that they can make money in the small loan business without predatory tactics.
Payday industry leaders are urging Congress to roll back the rule through the Congressional Review Act, which allows lawmakers to roll back regulations within 60 legislative days. But vulnerable lawmakers will be reluctant to vote for predatory lending tactics that push people into poverty.
The Trump administration could undermine regulations after office director Richard Cordray leaves or when his term expires next summer. Consumer advocates must remain alert to this possibility.